Lose Like the One Percent!

Only the wealthiest are eligible to obliterate capital in these exclusive investments

I don’t necessarily hate alternative investments. I do, however, hate the way they are marketed.

Despite buoyant public markets, a troubling number of private funds have been sinking: gating redemptions and/or blowing up. This shouldn’t be happening in a bull market, and it may portend more serious trouble when the tide turns on the bull market.

Of course, because these products are not traded on public markets, these failures often happen under the radar. This past week saw a couple of them highlighted in national media on both sides of the 49th parallel.

The Yieldstreet debacle

First, CNBC’s Hugh Son reported on Yieldstreet, which according to the article’s first summary bullet point is “one of the best-known examples of American startups with the stated mission of democratizing access to assets such as real estate, litigation proceeds and private credit.”

Their tagline is “Invest Like the 1%.”

I mean, come on… how could I resist writing about this story? I’m on this like a fat kid on cake.

In Low Risk Rules I wrote:

Investment innovation has been called the democratization of investing, and how can democratizing anything be bad?

I suppose it means that, thanks to technology, the average investor now has just as much of a chance of incinerating capital in the art market as the wealthy.

So this is right up my alley. I’m not happy that people lost money in these funds, but I’m glad that light is being shed on the failure of these funds, in the hope that it will save other investors in the future.

There are so many patterns in this story that I have written about in the past. First, and most obvious, is the claim that Yieldstreet “gives retail investors… access to the types of deals that were previously only the domain of Wall Street firms or the ultrarich.”

Another common sales tactic is to drop the names of other ultra-wealthy investors in the deal. In this case, it was a real estate deal overseen by former WeWork CEO Adam Neumann’s family office. Targeted returns were 20% per annum. The investment was written off to zero this past May.

Whaddaya know? In Low Risk Rules I also wrote:

Marketing techniques that appeal to your desire to invest in exclusive funds, or alongside well-known investors, are associated with investments that are expensive, illiquid, complex, and usually best avoided.

CNBC’s research estimated that more than $370 million invested in 30 Yieldstreet real estate projects have been impacted, with $78 million in defaults in the past year… and potentially more to come. Of the 30 deals reviewed by CNBC, four were total losses and 23 more are on a “watchlist” suggesting more severe impairment to come. Meanwhile, stock markets hit new highs.

Without this type of reporting, nobody would know anything about these losses! From the article:

Only customers participating in a specific fund get information about its performance, and Yieldstreet labels its investor updates “confidential,” warning customers that the information in them can’t be shared without consent from the startup. While not uncommon in the private markets, those limitations make it hard for investors to know if their experience is unique.

This is a cautionary tale, but it’s also more than that. It’s evidence of systemic rot in an industry that will say anything to collect fees on investor assets, while downplaying the risks involved in those investments.

Meanwhile… risks in mortgage lending

There’s another somewhat related drama playing out on the northern side of the border, where mortgage lender Trez Capital has suspended redemptions on five of its mortgage funds. This isn’t a matter of investors facing big losses (yet), but just a matter of restrictions on redemptions. That is, if you’d like to have your money back, you’ll have to get in line. The funds simply don’t have enough cash to pay out all of the investors who want their money back.

Way back in 2022 I wrote about Canadian mortgage lender Romspen, who was forced to put similar restrictions in place for similar reasons. That freeze is apparently still in place. And investor returns have been dismal. So much for the purported benefits of accessing alternative asset classes. The promise of these funds was high single digit returns from a low-risk fixed income asset. Oops. One would have done better in a bank term deposit. And Trez and Romspen aren’t the only private Canadian funds in trouble.

Look, investing is hard, and I don’t mean to suggest that the managers of these funds did anything wrong. My problem is purely with the marketing departments that portray these investments as lower risk, or an exclusive perk afforded to the world’s best investors.

It’s a sales pitch. You can do better, for cheaper, and retain full access to your money the minute you need it. Don’t fall for it.